Future Generation Philippine International School, K.S.

Bldg. No. 223-225, Al-Bajourashi St. Suleimaniah District, Riyadh K.S.A

Effects of Greece’s Economic Crisis on the World Market

Submitted By: Ingco, Joanna Angela S.

Year & Section: 9-Curie

Name of Teacher: Ma’am Zenaida C. Meren

 CHAPTER 1: INTRODUCTION

1.1. Background of the Study

Greece joined the European Communities (subsequently subsumed by the European

Union) on 1 January 1981, ushering in a period of sustained growth. Widespread investments in

industrial enterprises and heavy infrastructure, as well as funds from the European Union and

growing revenues from tourism, shipping and a fast-growing service sector raised the country's

standard of living to unprecedented levels. The country adopted the Euro in 2001 and over the

next 7 years the country's GDP per capita nearly tripled, from $12,400 in 2001 to $31,700 in

2008. The Greek government, encouraged by the European Commission, European Central

Bank, private banking institutions, and the Greek business community also took out loans to pay

Greek and foreign infrastructure companies for a wide variety of infrastructure projects such as

those related to the 2004 Summer Olympic Games in Athens. Government deficits were also

consistently underreported. As the Financial crisis of 2007–08 began to affect Greece's economy,

the country's GDP fell by nearly 20% from 2008 to 2010 and the government's capacity to repay

its creditors was drastically reduced.

The International Monetary Fund (IMF) admitted that its forecast about Greek economy

was too optimistic: in 2010 it described Greece's first bailout program as a holding operation that

gave the Eurozone time to build a firewall to protect other vulnerable members, but in 2012 the

unemployment rate of Greece became about 25 percent, compared to IMF's projection of about

15 percent. IMF conceded that it underestimated the damage that austerity programs would do to

the Greek economy, adding that, in terms of Greece's debt, IMF should have considered a debt

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restructuring earlier. But in fact the economy continued to shrink, and Greek real GDP in 2013

was about 76 percent of that in 2008.

Some European scholars have insisted on the shaky legal grounds upon which the

"troika" composed of the EU Commission, the European Central Bank and the IMF has pursued

the harsh macroeconomic adjustment plans imposed on Greece, claiming they infringe upon

Greece's sovereignty and interfere in the internal affairs of an independent EU nation-state: "the

overt infringements on Greek sovereignty we're witnessing today, with EU policy makers now

double-checking all national data and carefully 'monitoring' the work of the Greek government

sets a dangerous precedent."

These scholars have argued that a withdrawal from the Eurozone would give the Greek

government more room for maneuver to conduct public policies propitious for long-term growth

and social equity.

1.2. Statement of the Problem

This paper seeks to answer the following questions:

a. How did Greece fall into a widespread economic crisis?

b. How was the European Union affected with Greece’s sudden downfall?

c. What are the other countries affected with the Greek’s economic crisis?

d. How did Greece affect the competitiveness of the world market?

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1.3. Objective of the Study

This paper aims to do the following:

a. To understand the weigh of a country’s economy to the entire world market

b. To examine the causes of the downfall of Greece’s markets

c. To identify how other countries (especially those who have lent Greece money) were

affected by the sudden turn of events

1.4. Significance of the Study

Greece’s plight deteriorated sharply when Tsipras put his country’s future in the balance

by suddenly calling a referendum and arguing robustly for a rejection of the price set by his

creditors for saving Greece, at least for a few more months.

a. This study aims to understand how the world market was affected due to the economic

crisis Greece faced over the past years

b. To examine which countries have been greatly affected with Greece’s crisis

c. To study how a country’s economy affects the world market and its competitiveness

d. To identify possible solutions to the economic crisis Greece has faced and how to avoid it

1.5. Scopes and Limitations

The focus of this research is the effects of Greece’s economic crisis on the world market

especially the European Union of which the country is part of. It also focuses on the possibility

of Greece leaving ‘euro’ as its currency and reverting back to drachmas.

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1.6. Definition of Terms

Economic Crisis- a situation in which the economy of a country experiences a sudden

downturn brought on by a financial crisis. An economy facing an economic crisis will

most likely experience a falling GDP, a drying up of liquidity and rising/falling prices

due to inflation/deflation.

Recession- a period of temporary economic decline during which trade and industrial

activity are reduced, generally identified by a fall in GDP in two successive quarters.

Gross Domestic Product (GDP)- the total value of goods produced and services

provided in a country during one year.

Great Recession- was a period of general economic decline observed in world markets

during the late 2000s and early 2010s. The scale and timing of the recession varied from

country to country. In terms of overall impact, the International Monetary

Fund concluded that it was the worst global recession since World War II.

Government Debt- (also known as public interest, national debt and sovereign debt) is

the debt owed by a central government. (In federal states, "government debt" may also

refer to the debt of a state or provincial, municipal or local government.) By contrast, the

annual "government deficit" refers to the difference between government receipts and

spending in a single year.

Bond (finance) - is an instrument of indebtedness of the bond issuer to the holders.

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 Yield Spread- (or also known as credit spread) is the difference between the quoted rates

of return on two different investments, usually of different credit quality. It is often an

indication of the risk premium for investing in one investment product over another.

Credit Default Swap (CDS) - is a financial swap agreement that the seller of the CDS

will compensate the buyer (usually the creditor of the reference loan) in the event of a

loan default (by the debtor) or other credit event. 

Haircut (finance) - is the difference between the market value of an asset used as

loan collateral and the amount of the loan.

European Union (EU) - is a political and economic union of 28 member states that are

located primarily in Europe. The EU has developed an internal single market through a

standardized system of laws that apply in all member states. EU policies aim to ensure

the free movement of people, goods, services, and capital within the internal market,

enact legislation in justice and home affairs, and maintain common policies on trade,

agriculture, fisheries, and regional development.  A monetary union was established in

1999 and came into full force in 2002, and is composed of 19 EU member states which

use the euro currency.

Eurozone- (also known as euro area) is a monetary union of 19 of the 28 European

Union (EU) member states which have adopted the euro (€) as their common currency

and sole legal tender. The monetary authority of the eurozone is the Eurosystem. The

other nine members of the European Union continue to use their own national currencies,

although most of them are obliged to adopt the euro in future.

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 International Monetary Fund (IMF)- is an international organization headquartered

in Washington, D.C., of "189 countries working to foster global monetary cooperation,

secure financial stability, facilitate international trade, promote high employment and

sustainable economic growth, and reduce poverty around the world." It now plays a

central role in the management of balance of payments difficulties and international

financial crises.

Eurogroup- is the recognized collective term for informal meetings of the finance

ministers of the eurozone, i.e. those member states of the European Union (EU) which

have adopted the euro as their official currency.

European Central Bank (ECB)- is the central bank for the euro and

administers monetary policy of the eurozone, which consists of 19 EU member states and

is one of the largest currency areas in the world.

Grexit - is the potential exit of Greece from the eurozonemonetary union in the 2010s,

primarily for the country to deal with its government-debt crisis. The controversial and

much discussed possible exit is often referred to as "Grexit", a portmanteau combining

the English words "Greek" and "exit".

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 CHAPTER 2: REVIEW OF RELATED LITERATURE

The Greek Economic Crisis

The Greek government-debt crisis (also known as the Greek Depression) is the sovereign

debt crisis faced by Greece in the aftermath of the financial crisis of 2007–08. The Greek crisis

started in late 2009, triggered by the turmoil of the Great Recession, structural weaknesses in

the Greek economy, and revelations that previous data on government debt levels and deficits

had been undercounted by the Greek government

This led to a crisis of confidence, indicated by a widening of bond yield spreads and

rising cost of risk insurance on credit default swaps compared to the other Eurozone countries,

particularly Germany. The government enacted 12 rounds of tax increases, spending cuts, and

reforms from 2010 to 2016, which at times triggered local riots and nationwide protests.

Despite these efforts, the country required bailout loans in 2010, 2012, and 2015 from

the International Monetary Fund, Eurogroup, and European Central Bank, and negotiated a 50%

"haircut" on debt owed to private banks in 2011. After a popular referendum which rejected

further austerity measures required for the third bailout, and after closure of banks across the

country (which lasted for several weeks), on 30 June 2015, Greece became the first developed

country to fail to make an IMF loan repayment.

The 2001 introduction of the euro reduced trade costs among Eurozone countries,

increasing overall trade volume. Labor costs increased more (from a lower base) in peripheral

countries such as Greece relative to core countries such as Germany, eroding Greece's

competitive edge. As a result, Greece's current account (trade) deficit rose significantly. Both the

Greek trade deficit and budget deficit rose from below 5% of GDP in 1999 to peak around 15%

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of GDP in the 2008–2009 periods. One driver of the investment inflow was Greece's

membership in the EU and the Eurozone. Greece was perceived as a higher credit risk alone than

it was as a member of the EU, which implied that investors felt the EU would bring discipline to

its finances and support Greece in the event of problems.

As the Great Recession spread to Europe, the amount funds lent from the European core

countries (e.g. Germany) to the peripheral countries such as Greece began to decline. Reports in

2009 of Greek fiscal mismanagement and deception increased borrowing costs; the combination

meant Greece could no longer borrow to finance its trade and budget deficits at an affordable

cost. A country facing a “sudden stop” in private investment and a high (local

currency) debt load typically allows its currency to depreciate to encourage investment and to

pay back the debt in cheaper currency.

This was not possible while Greece remained on the Euro. Instead, to become more

competitive, Greek wages fell nearly 20% from mid-2010 to 2014, a form of deflation. This

significantly reduced income and GDP, resulting in a severe recession, decline in tax receipts and

a significant rise in the debt-to-GDP ratio. Unemployment reached nearly 25%, from below 10%

in 2003. Significant government spending cuts helped the Greek government return to a

primary budget surplus by 2014.

After 2008, GDP growth was lower than the Greek national statistical agency had

anticipated. The Greek Ministry of Finance reported the need to improve competitiveness by

reducing salaries and bureaucracy and to redirect governmental spending from non-growth

sectors such as the military into growth-stimulating sectors.

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 The global financial crisis had a particularly large negative impact on GDP growth rates

in Greece. Two of the country's largest earners, tourism and shipping were badly affected by the

downturn, with revenues falling 15% in 2009.

The debt increased in 2009 due to the higher than expected government deficit and higher

debt-service costs. The Greek government assessed that structural economic reforms would be

insufficient, as the debt would still increase to an unsustainable level before the positive results

of reforms could be achieved.

In addition to structural reforms, permanent and temporary austerity measures (with a

size relative to GDP of 4.0% in 2010, 3.1% in 2011, 2.8% in 2012 and 0.8% in 2013) were

needed. Reforms and austerity measures, in combination with an expected return of positive

economic growth in 2011, would reduce the baseline deficit from €30.6 billion in 2009 to €5.7

billion in 2013, while the debt/GDP ratio would stabilize at 120% in 2010–2011 and decline in

2012 and 2013.

Budget compliance was acknowledged to need improvement. For 2009 it was found to be

"a lot worse than normal, due to economic control being more lax in a year with political

elections". The government wanted to strengthen the monitoring system in 2010, making it

possible to track revenues and expenses, at both national and local levels.

Tax receipts consistently were below the expected level. In 2010, estimated tax evasion

losses for the Greek government amounted to over $20 billion. In 2013, figures showed that the

government collected less than half of the revenues due in 2012, with the remaining tax to be

paid according to a delayed payment schedule.

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 The government's activities improved their score of 43/100 in 2014, still the lowest in the

EU, but close to that of Italy, Bulgaria and Romania. It is estimated that the amount of evaded

taxes stored in Swiss banks is around 80 billion Euro. In 2015 a tax treaty to address this issue

was under negotiation between the Greek and Swiss government.

Why The Greek Economy Is Affecting Global Markets

When Greek Prime Minister George Papandreou presented the idea of a referendum on

the bailout uncertainty and fear grew to a fevered pitch.   The masses in Greece did not want to

submit to the changes that would be required by the European Central Bank (ECB) for the new

bailout loan, but the government believed that without it the economy will totally collapse.

There are two major components to this issue.  First is the chance of Greece defaulting on the

bailout loans that they have already been given.  The second has to do with the chance that they

could pull out of the Euro as a currency.

When we consider the problems that would occur if Greece defaults, we have to look at

how this would affect the lender countries.  Large banks in Germany, France and England have

propped up Greece with loans. Greece is not an insignificant economy and its failure would send

ripple effects throughout the world, think “too big to fail”.  

They are also intricately linked to Greece through the European Union (EU).  Many think

that if Greece defaults, other members might default as well. The Wall Street Journal stated,

“The decision by Greek Prime Minister George Papandreou to shelve the poll capped a

tumultuous few days that thrust Athens to the brink of political chaos and forced Europe’s

leaders to contemplate Greece’s exit from the single currency.”

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 That brings us to the other major issue. Greece might pull out of the Euro as it’s national

currency.  As the seventeen member nations of the EU consider the possibility of Greece

rejecting the euro the fear is that other member nations may also follow suit.  This would cause a

major destabilization of the remaining EU member’s currency and ultimately their economies. A

lot of the volatility witnessed across global stock markets thus far in 2015 can be attributed to the

ongoing soap opera involving Greece, the European Union (EU) and the International Monetary

Fund (IMF). 

Greece, arguably the most notorious of the P.I.I.G.S. (i.e. Portugal, Italy, Ireland, Greece

and Spain) countries, has been confronting a mountain of debt issues – currently estimated at 320

billion Euros – within the country for years.    If that number is not staggering enough, consider

these other economic statistics plaguing the country of Greece.

• Gross Domestic Product (“GDP”) has fallen by 25% since 2010

• A Debt-to-GDP ratio of 177%

• An unemployment Rate of 27%

• More than 20% of the Greek population is over the age of 65 – making it the

world’s 5th oldest nation – and only 14% of the population is under the age of 15

With Greece in need of another bailout, or debt restructuring, to avoid defaulting on a

significant repayment to the IMF at the end of June (and more to come thereafter), and Greece

Prime Minister Tsipras opposing additional austerity measures (ex. pension cuts and potential

increases to the age of retirement for these purposes in Greece) that may be a part of any new

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debt deal, many market participants are now bracing for the increased likelihood that Greece will

leave the euro – whether on their own or at the request of the EU.

Germany, as the largest member of the EU, which Greece reportedly owes $56 billion alone, is

showing signs of diminished interest in saving Greece again.   This dubious view is shared

elsewhere in Europe which suggests that this standoff may remain until the end of June deadline.

While it is unknown if either party will blink first, or if the proverbial can will be kicked further

down the road, we, at Hennion & Walsh, believe that it is appropriate for investors to consider

the impact that a Greece exit from the euro (now being referred to by many as the “Grexit”)

would have on their portfolios and financial markets overall.

At first, Athens borrowed billions of dollars from European banks to make ends meet

(those same banks agreed to a 50% haircut on those loans in October 2011). But Greece couldn't

come up with the cash to pay off those loans, further exacerbating the debt problem. Greece was

no longer able to raise funds from the public markets as investors feared they wouldn't get their

money back if they lent money to Greece.

With Greece on a path towards bankruptcy in early 2010 — and the threat of a new

financial crisis looming — the country got its first of two international bailouts that would end

up totaling 240 billion euros ($268.8 billion in U.S. dollars at current exchange rates) from the

so-called "troika" — the European Central Bank, the International Monetary Fund and the

European Commission. The bulk of the money Athens owes today is to the troika, and not to

European banks.

The bailout terms were stringent. The "austerity" plan meant less spending, higher taxes,

a crackdown on tax evasion and other measures designed to get Greece's finances back on track.

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But Greece still couldn't come up with the funds to pay its bills on its own. As a result, Greece's

financial situation worsened. Its unemployment rate is above 25% and its GDP has fallen by

roughly 30% since 2008, according to World Bank data. Greece's debt is nearing 200% of GDP.

"(Greece) never made policy changes," says Kotok. "They kept doing business as usual." The

bottom line: Most of the bailout money Greece receives is used to repay loans from its creditors.

And it is virtually impossible for Greece to pay down its enormous debt when the economy is

underperforming.

If Greece defaults, its economy will contract further and jobs will be harder to come by.

Uncertainty about the future will skyrocket. Greek depositors will have trouble getting their

money out of banks. Government services will become scarce. And voters could find themselves

going to the polls to elect new leaders. It would also mark the first major advanced economy to

renege on a payment to the IMF. Usually, the IMF affords a 30-day grace period before it

declares technical default, although IMF Managing Director Christine Lagarde has said Greece

will get no such grace period.

A default would also likely mean that the ECB would cut off its emergency cash

infusions to Greek banks. That could result in runs on Greek banks (depositors have been

yanking cash out of banks there for weeks). Capital controls, or restrictions placed on how much

cash depositors can access from their accounts, are also likely. "Greece won't get a loan at

palatable terms, forcing immediate and severe adjustments," says Axel Merk, chief investment

officer at Merk Investments. "In addition, Greek banks are likely to collapse, crippling what's left

of the economy. Beyond that, it's all speculation."

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 Greece will likely issue its own currency, too, Merk adds, but it doesn't mean people will

accept it. Financial markets will probably react negatively, although it's unclear on how big the

negative fallout will be. Investors will quickly try to determine if a Greek default leads to

financial contagion, or spreads to other markets around the globe. Currently, the consensus is

that Greece does not pose a "systemic" risk to the system.

Opinions differ on how a default will affect the European economy. "Not much, this is

Greece's problem," says Merk. "Indeed, clarity would be helpful, as one could move forward."

Despite Greek's woes, the eurozone economy is starting to firm up, bolstered in large part by the

ECB's government bond-buying program designed to reflate the economy by keeping rates low

and bolstering economic activity. The eurozone, a 19-nation economic and currency bloc, has

finally climbed out of recession and grew 0.4% in the first quarter of 2015.

Given that Greece's economy is centered mainly around tourism, coupled with the fact

that the bulk of its debt is no longer held by European banks and the ECB now has backstop

tools if turbulence occurs, a default is not expected to bring the eurozone economy to its knees.

Offering a differing opinion, Kotok counters that there are still many uncertainties related to how

markets will react to a Greek default. "The rest of Europe is a big uncertainty," says Kotok. "That

is the unknown risk."

"Everything," Merk warns. "They can choose between making a tough or a horrible

choice. Both are painful." Greece's role as a member of the 19-nation euro is at stake. There is a

chance that it will have to exit from the euro. What's more, if Greece fails to strike a deal for

more bailout funds, it is likely that the financial pain and economic challenges will become even

greater, creating a great burden on its citizens.

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Greek Crises and Its Impact on the World Economy

The economy of Greece is the twenty-seventh largest economy in the world by

nominal gross domestic product (GDP) and the thirty-third largest by purchasing power parity,

according to the data given by the International Monetary Fund for the year 2008. Its GDP per

capita is the 25th highest in the world, while it’s GDP PPP per capita is also the 25th. Greece is a

member of the OECD, the World Trade Organization, the Black Sea Economic Cooperation,

the European Union and the Euro zone. The Greek economy is a developed economy with the

22nd highest standard of living in the world. The public sector accounts for about 40% of GDP.

The service sector contributes 75.8% of the total GDP, industry 20.8% and

agriculture 3.4%. Greece is the twenty-fourth most globalized country in the world and is

classified as a high income economy.

Greece adopted the euro as its currency in January 2002. The adoption of the euro

provided Greece (formerly a high inflation risk country under the drachma) with access to

competitive loan rates and also to low rates of the Eurobond market. This led to a dramatic

increase in consumer spending, which gave a significant boost to economic growth.

Between 1997-2007, Greece averaged four percent GDP growth, almost twice the

European Union (EU) average. As with other European countries, the financial crisis and

resulting slowdown of the real economy have taken their toll on Greece’s rate of growth, which

slowed to  two percent in 2008.

The economy went into recession in 2009 and contracted by two percent as a result of the

world financial crisis and its impact on access to credit, world trade, and domestic consumption

— the engine of growth in Greece. Key economic challenges with which the government is

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currently contending include a burgeoning government deficit (13.6% of GDP in 2009),

escalating public debt (115.1% of GDP in 2009), and a decline in competitiveness.

The EU placed Greece under its Excessive Deficit Procedure in 2009 and has asked

Greece to bring its deficit back to the three percent EU ceiling by 2012. In late 2009, eroding

public finances, misreported statistics, and inadequate follow-through on reforms prompted

major credit rating agencies to downgrade Greece’s international debt rating, which has led to

increased financial instability and a debt crisis.

 Under intense pressure by the EU and international lenders, the Greek Government has

adopted a three-year reform program that includes cutting government spending, reducing the

size of the public sector, tackling tax evasion, reforming the health care and pension systems, and

improving competitiveness through structural reforms to the labor and product markets.

The Greek Government projects that its reform program will achieve a reduction of

Greece’s deficit by four percent of GDP in 2010 and allow Greece to decrease the deficit to

below three percent by 2012. In April 2010, Greece requested activation of a joint European

Union-International Monetary Fund support mechanism designed to assist Greece in financing

its public debt.

The financial crisis and the consecutive recession caused an increase in unemployment to

nine percent in 2009 (from 7.5% in 2008). Unfortunately, foreign direct investment (FDI)

inflows to Greece have dropped, and efforts to revive them have been only partially successful as

a result of declining competitiveness and a high level of red tape and bureaucracy. At the same

time, Greek investment in Southeast Europe has increased, leading to a net FDI outflow in some

years.

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Greece has a predominately service economy, which (including tourism) accounts for over 73%

of GDP. Almost nine percent of the world’s merchant fleet is Greek-owned, making the Greek

fleet the largest in the world. Other important sectors include food processing, tobacco, textiles,

chemicals (including refineries), pharmaceuticals, cement, glass, telecommunication and

transport equipment. Agricultural output has steadily decreased in importance over the last

decade, accounting now for only five percent of total GDP.

The EU is Greece’s major trading partner, with more than half of all Greek two-way trade

being intra-EU. Greece runs a perennial merchandise trade deficit, and 2009 imports totaled $64

billion against exports of $21 billion. Tourism and shipping receipts together with EU transfers

make up for much of this deficit.

The Greece crisis that is the sovereign risk that evolved this year is horrifying. We find

the economy totally paralyzed and the fallout of financial Armageddon fades off, it paves the

way for fiscal imbalances and sovereign downgrades. If we go back into the past this is the fifth

time that Greece is on the verge of default. But as we know the situation was different then. It

had the option of devaluing its currency to rescue itself from the chasm.

Now, the situation is different as it is stuck in a monetary union and the unalterable laws

framed in the Lisbon treaty at the time of monetary unification makes the situation worse. Then

we have bond vigilantes claiming for fiscal austerity in the midst of a turmoil thereby

aggravating the financial trauma of Greece.

The situation also has been driven by the continuous fudging of national accounts by

making use of currency swaps just to mask the debt situation thereby trying to create an image

that the norms prescribed in the Maastricht treaty are followed. Greece can’t really inflate the

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situation away because its hands are tied to ECB. There is no currency option as well. The only

way to come out of this pothole is to restructure its debt and try to restore its budget imbalances

to create some kind of confidence for its creditors. This suggestion has been provided by many

economists across the globe.

We have seen Greece getting help from Germany and France as well. The countries have

responded cohesively and have calmed the markets and have held the monetary union together

just to keep the euro smiling. The situation is good so far if we go by the CD spreads. We never

know if there is a financial implosion which could the push the economy back into the mess. The

measures have taken up by Greece finance minister and the president. The situation is under

control according to them.

Over the last ten years, to fund the Government budget and current account deficit

Greece the reported current account deficit of Greece averaged nine percent per year, compared

to the average current account deficit of one percent for the entire Euro zone. But as per the

revised Statistics in 2009, the budget deficit is estimated to have been more than 13% of GDP,

and many attributed these high budget and current account deficits to the high spending of

successive Greek governments.

As discussed earlier Greece government funded both of these deficits by borrowing from

Global capital markets, leaving Greece with high external debt i.e., 115% of GDP in 2009. But

this High Level of Budget deficit & Current account deficit are well above those permitted by the

rules governing the EU’s Economic and Monetary Union (EMU). Even though the US financial

crises led to Liquidity problems in most of the world economies, the Greek government managed

to raise the funds from international markets. The financial crises which led to global economic

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slowdown placed a lot of pressure on the governments of various economies including Greece,

resulted in increases in Government expenditure & decrease in Tax Revenues.

Allegations that Greek governments had falsified statistics and attempted to obscure debt

levels through complex financial instruments also contributed to a drop in investor confidence.

Before the crisis, Greek 10-year bond yields were 10 to 40 basis points above German 10-year

bonds. With the crisis, these spreads increased to 400 basis points in January 2010, which was at

the time a record high. High bond spreads indicate declining investor confidence in the Greek

economy.

Despite increasing nervousness surrounding Greece’s economy, the Greek government

was able to successfully sell €8 billion ($10.6 billion) in bonds at the end of January 2010, €5

billion ($6.7 billion) at the end of March 2010, and €1.56 billion ($2.07 billion) in mid-April

2010, albeit at high interest rates. However, Greece must borrow an additional €54 billion ($71.8

billion) to cover maturing debt and interest payments in 2010, and there are concerns about the

government’s ability to do so.

At the end of March 2010, the Euro zone member states pledged to provide financial

assistance to Greece in concert with the IMF, if necessary and if requested by Greece’s

government. In mid- April 2010, the details of the proposed financial assistance package for this

year were released: a three-year loan worth €30 billion ($40 billion) at five percent interest rates,

above what other Southern European countries borrow at, but below the rate currently charged

by private investors on Greek bonds. It is expected that an IMF stand-by arrangement, the IMF’s

standard loan for helping countries address balance of payments difficulties, valued at €15 billion

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($20 billion) for this year would precede any assistance provided to Greece by the Euro zone

members.

Investor jitteriness spiked again in April 2010, when Euro stat released its estimate of

Greece’s budget deficit. At 13.6% of GDP, Euro stat’s estimate was almost a full percentage

higher than the previous estimate released by the Greek government in October 20099. This led

to renewed questions about Greece’s ability to repay its debts, with €8.5 billion ($11.1 billion)

falling due in mid-May 2010.

On April 23, 2010, the Greek government formally requested financial assistance from

the IMF and other Euro zone countries. The European Commission, backed by Germany,

requested that the details of Greece’s budget cuts for 2010, 2011, and 2012 be released before

providing the financial assistance. In late April 2010, the spread between Greek and German 10-

year bonds reached a record high of 650 basis points, and one of the major credit rating agencies,

Moody’s, downgraded Greece’s bond rating.

As Euro is the common currency for the entire European Union, Euro zone — and all

trading partners of Euro zone — is affected due to wide range of currency fluctuations and the

Drastic fall in the value of Euro.

The immediate effect of the Greek crises is on the other 15 Euro zone economies as they

agreed to help out Greece and hence the taxpayers of these economies will effectively share a

part of Greece's burden.

There is also huge fear that the problems associated with Greece economy will have an

adverse domino effect on International capital markets. Which in turn affects the weak members

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of the euro zone, such as the so-called “PIIGS” — Portugal, Ireland, Italy and Spain as well as

Greece — all of whom face challenges rebalancing their books.

Rating Agencies also played a crucial role in the entire process. Rating Agencies actually

rates countries, companies & financial products like equity & Debt. A country or a company

with good rating can raise the funds at a cheaper cost. Now there are concerns that their

downgrading of Greece, Spain and Portugal might trigger a sovereign debt crisis, where

countries can no longer raise money to pay their bills. This fear resulted in the increase in the

interest rates which means that these countries have to pay more interest to barrow in open

market.

The Greek crises has an impact on the global banking system also as many global major

banks have invested in the debt instruments issued by Greek government. So ultimately this

economic crisis will affect many ordinary investors or people who own their shares through

pension funds. Greek crises has also impact on the Currency markets, most of the Currency

traders have feared that some countries with large budget deficits  — such as Greece, Spain and

Portugal — might be tempted to leave the euro.

  The other major problem is with the European Union itself. Any country which left the

European Union could allow its currency to fall in value, and thereby improving its

competitiveness. But it would cause huge ruptures in the financial markets as investors would

fear other nations would follow, potentially leading to the break-up of the monetary union itself.

This political and economic failure leads to the third Greek warning: that contagion can

spread through a large number of routes. A run on Greek banks is possible. So is a “sudden stop”

of capital to other weaker euro-zone countries. Firms and banks in Spain and Portugal could find

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themselves shut out of global capital markets, as investors’ jitters spread from sovereign debt.

Europe’s inter-bank market could seize up, unsure which banks would be hit by sovereign

defaults. Even Britain could suffer, especially if the May 6th election is indecisive.

So this crisis shows how a debt burden can prove to be a bane to the country. Keeping

these symptoms in mind government all over the world has decided to reduce their Debt burden.

If we look at the India, it is having 80% of GDP as a debt burden and government is

taking many steps to reduce the debt amount like disinvestment. Moreover because of financial

integration i.e. the formation of Euro is under question as countries don’t have the Monetary

power so can’t print money neither they can control interest. 

Greek Debt Crises Affects Europe

In the European Union, most real decision-making power, particularly on matters

involving politically delicate things like money and migrants, rests with 28 national

governments, each one beholden to its voters and taxpayers. This tension has grown only more

acute since the January 1999 introduction of the euro, which binds 19 nations into a single

currency zone watched over by the European Central Bank but leaves budget and tax policy in

the hands of each country, an arrangement that some economists believe was doomed from the

start.

Since Greece’s debt crisis began in 2010, most international banks and foreign investors

have sold their Greek bonds and other holdings, so they are no longer vulnerable to what

happens in Greece. (Some private investors who subsequently plowed back into Greek bonds,

betting on a comeback, regret that decision.)

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And in the meantime, the other crisis countries in the Eurozone, like Portugal, Ireland and Spain,

have taken steps to overhaul their economies and are much less vulnerable to market

contagion than they were a few years ago.

Greece does hold some leverage, however. European leaders are keen to avoid a new

Greek crisis before a British referendum on membership to the European Union in June, and will

most likely need Greece’s help in tackling the Continent’s continuing migration crisis, which has

been concentrated in the Aegean Sea.

As Greece embarks on tough economic reforms it is facing the prospect of deep social

unrest, with tens of thousands of workers taking to the streets this week. The Greek debt crisis is

spilling over to other European economies - and threatening international prospects for economic

recovery. More strikes and social unrest. Tens of thousands of disgruntled workers spilled into

Greek streets on Wednesday, registering their discontent with government austerity measures to

control Greece's spiraling public deficit and debt. Greece's economic woes have posed the

biggest challenge yet for the decade-old euro currency - and the 16 nations, including Greece,

that make up the Eurozone economy.

Greece has been a top subject in Brussels, where European Union leaders registered

support for Athens and its economic reforms this month - but offered no financial assistance. The

Greek government has promised to slash its public deficit from nearly 13 percent of gross

domestic product to nearly nine percent of Gross Domestic Product by the year's end. Greece's

debt is currently estimated at more than $404 billion - or about 113 percent of its GDP. The

crisis is serious and it is serious for many reasons. One is because of the credibility of Greece.

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And the events of the past couple of days do not really improve confidence in the country and

therefore foreign investors are very concerned.

The European Commission - the EU's executive arm - says it will be monitoring Greece

carefully to see it lives up to its promises. Commissioner Rehn says the Greek crisis serves as a

lesson for the eurozone as a whole. Several credit tracking agencies have downrated Greece's

credit rating and Standard & Poor's warned it could do so again. That could put Greece in the

high risk investment category, making it very difficult for the country to borrow money. Polls

show that despite the social protests, the majority of Greeks support the government's austerity

measures. And Subacchi says it is critical Athens sticks to them. The Greek government has a

huge problem. It needs first of all to regain credibility. And the way to do it is to make sure that

the deficit reduction plan is credible. It's not overambitious with the risk of triggering the kind of

protest we're seeing - but it's not too mild.

Analysts fault several factors for Greece's debt crisis. The country overspent and failed to

report the true size of its ballooning deficit to the European Union. Critics also say the European

Union did not properly scrutinize the figures sent in by Athens. But Simon Tilford, chief

economist at the Center for European Reform in London, says the Greek crisis reflects a larger

economic problem in Europe.

EU members like the Netherlands and Germany have spent too little and their economies

are driven by exports. Meanwhile, southern economies like Greece and Portugal have spent too

much and amassed debts as a result. So in order to find a lasting solution, we need change on

both sides. we need countries that have been hard hit in the south - such as Spain, Greece,

Portugal, Italy - to take reforms to boost productivity growth, to cut costs, to manage their public

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sectors more efficiently. But Tilford says surplus countries like Germany have to provide more

demand for southern European products.

Analysts fear Greece's economic crisis risks spilling over to other southern European

countries with shaky economies. It has also raised questions on complex and questionable

financial deals between Athens and financial companies like Goldman Sachs. But Tilford says

these are symptoms and not the root causes of Greece's dilemma. Analysts like Tilford and

Subacchi believe European governments will ultimately come to Athens's financial rescue -

because a Greek crisis may soon become a European one.

Greece's problems are also spilling beyond Europe's borders. The value of the euro

currency has plunged for example, which makes American exports - key to the U.S. economic

recovery - less competitive. Ultimately, Tilford says, the Greek problem reflects a world

economic problem.

The eurozone s really just a microcosm of the global problems we see. So unless we see

the big countries in East Asia rebalancing away from exports and toward domestic demand, we

are not going to generate a self-sustaining global economic recovery. The region may rescue

Greece, he says, but it will only be putting a bandage on a far bigger problem.

Claudia Panseri, head of equity strategy at Société Générale, speculated in late May 2016

that eurozone stocks could plummet up to 50 percent in value if Greece makes a disorderly exit

from the eurozone.  Bond yields in other European nations could widen 1 percent point to 2

percent points, negatively affecting their ability to service their own sovereign debts.

But, as early as March 2010, other European financial economists had supported the

notion of a swift Greek withdrawal from the Eurozone and the simultaneous reintroduction of its

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former national currency the drachma at a debased rate, arguing that the European economy as a

whole would eventually benefit from such a policy change: "Such an abrupt readjustment might

be painful at first, but it will ultimately strengthen the Greek economy and make the Eurozone

more cohesive, and thus better at confronting the difficult economic circumstances and dealing

with them."

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 CHAPTER 3: CONCLUSION, ANALYSIS, AND RECOMMENDATION

Greece doesn’t have a payments problem. It is well banked, well cleared and full of

digital money consumer options. What Greece does have is a government solvency problem.

This means the country’s government doesn’t have enough value under its control to make good

on the liabilities it has incurred to other entities.

Unlike the 2008 financial crisis, which was not a public solvency problem but

a private solvency problem in which government played the part of the rescuer, the problem for

Greece is and always has been connected to the government balance sheet. Things spiralled out

of control for the government because Greece borrowed more than it was supposed to and

disguised much of this excessive borrowing with fancy creative accounting strategies.

But even then, excess debt didn’t have to become a problem had Greek capital costs

remained tied to those of the core Eurozone, chances are we wouldn’t be sitting here stressing

about a Greek crisis. Greece’s troubles really began when its bond yields began to diverge from

the rest of Europe back in early 2009, following credit rating downgrades connected to concerns

about how a country with a large debt load could cope with the global financial crisis. That

was before Goldman’s famous Greek Trojan currency swap was even openly known about. In

fact, things got seriously out of whack in bond yield terms for Greece as early as December

2009, whereas news about the currency swap only emerged in February 2010.

Yet, even before the major divergence, September 2009 to be precise, analysts could tell there

was something distinctly odd about Greek liquidity needs versus those of the rest of the

Eurozone.

As Laurent Fransolet at Barclays Capital noted at the time:

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 “The one country where the link with government bond funding at the ECB is one of the

more apparent is probably Greece: the reliance on ECB funding by Greek banks has increased a

lot, and this has been to support an expansion of balance sheets (rather than replacing other

sources of funding), this expansion being mainly because of greek government bonds being

bought.”

With hindsight one can postulate — and we have done so before — the series of events

that led to an unsustainable Greek bond-yield divergence started when the ECB announced its

one-year LTRO on June 24, 2009, pumping €442bn of one-year liquidity into the eurozone. How

was this related to Greece? Back then all eurozone bonds were considered equal and yet, because

liquidity traders always look to deliver the cheapest collateral first, the go-to bond for accessing

LTRO liquidity collateral became the Greek bond.

And so it was that the ECB’s extraordinary efforts arguably and inadvertently

undermined the liquidity of the Greek bond markets, by sucking up collateral which the Greek

banks relied upon for their day-to-day repo operations, and not lending it out again. The scarcity

of collateral made it difficult for banks with outstanding repo obligations to find the bonds they

needed to cover those positions — encouraging delivery fails. (It was cheaper to fail to deliver

on repo agreements than source the scarce bonds.)

All of which amounted to an effective increase in the cost of capital for Greek banks. This in turn

led in November 2009 to a strange new rule being imposed on the Greek bond trading platform

HDAT giving Greek banks more time to find the necessary collateral before they were forced to

buy in. The rule was supposed to alleviate the cost of collateral scarcity for Greek banks. In an

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unexpected twist, some in the Greek government claimed it facilitated naked short-selling of

Greek bonds by making it cheaper and easier to sell them.

For its part, the Greek government believes any deal that maintains the status quo will be

unsustainable. The Greek economy has shrunk by about a quarter since 2008, and the country’s

debt mountain represents almost double Greece’s annual GDP output. The ruling SYRIZA party

argues that paying off Greece’s debts would require stronger growth than even the most wildly

optimistic forecasts.

It is possible that the creditors might ‘blink first’ and extend the current bailout, allowing

more time for talks to continue and offering much-needed funding from the European Central

Bank to Greece’s wobbling banking sector. Given the political mood in many European capitals,

however, it seems unlikely that Greece will see outright forgiveness – or a “haircut” – of its debt.

Few European leaders want to see a Greek default. However, the closer we get to the

deadline the greater the chance of an accident or miscalculation forcing events beyond anyone’s

control. If talks collapse on Thursday, it’s not inconceivable that we could see capital controls

introduced as early as this weekend. And, despite reassurances that new Eurozone policy tools

have been introduced since 2008, nobody is entirely sure how a Greek default and / or exit from

the Eurozone might impact the European and global economy.

Here are some of the possible solutions the Greek government could undertake to avoid

further defaults in their economy:

 Implement fiscal consolidation to stabilize the debt-to-GDP ratio within three

years.

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  Structural reforms designed to rebalance the economy toward the tradable sectors

and increase competitiveness are essential. To facilitate this, reduce unit labor

costs by at least 6 percent over three years—either immediately with a 6 percent

across-the-board wage cut, or more gradually—and institute structural reforms to

raise productivity. Begin with public sector wages.

 Explain the severity of the situation to citizens in order to build the public will

necessary for these adjustments. Distribute the adjustments in a transparent and

fair way to ensure that specific groups do not feel unjustly hit, and that the most

vulnerable are protected.

 Seriously consider restructuring the debt, allowing time for creditors to prepare

to facilitate progress on an agreed solution.   

 Prepare for a severe contraction in employment and income—likely larger than

forecasts predict—regardless of how the crisis is resolved.

 Rely increasingly on exports and undertake measures, including encouraging

wage reduction in the private as well as the public sector, to restore

competitiveness, in spite of political challenges.

 If progress on restoring competitiveness is not achieved within a reasonable time

frame, consider leaving the Euro area—this will imply restructuring the debt.

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z

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